When Not To Pick A Freemium Business Model

This guest column is by Kumar Venkatesiah, an independent marketing and elearning consultant

The basic essence of business is to sell a product or service that customers are willing to pay for. But thanks to the influx of venture capital in recent times, a growing number of business owners seek traction and growth before they actually start making money. A business that has millions of free users is typically valued higher by VCs than an alternative with just a few hundred paying customers. This is true even if the latter is more profitable than the former.

This mindset has given rise to a new business model called ‘freemium’. Essentially, this model makes the basic features of a product or service available for free to customers. While this feature helps the business grow their customer base exponentially, the monetization comes in with premium features that active users don’t mind paying for. On an average, 2 to 4% of users in a freemium business convert into paying customers. So as long as this small fraction of your paying customers can make you more money than the resources you expend by serving all the hundred percent of the user base, you have a good business model.

This math is simple to understand. But freemium is not for everybody and your failure here depends not only on the kind of users you attract and the value proposition of your product, but also on your marketing strategy and business execution. Let’s look at some of those factors that are not compatible with a freemium business model.

You cater to a niche crowd

How niche is your target customer base? If you make a product that can be used by thousands or millions of users, then a freemium product makes sense. This way, even if only one percent of users turn into paying customers, you are still profitable. But if you cater to a very small crowd, then it does not make sense to provide some of your key offerings for free and hoping to make money from a fraction of this niche audience. It is easier to provide a free trial for your product instead.

You have high overhead costs

If you are in a business that has extremely high overhead costs, then providing some of your products or services for free can be fatal for your business. This is because no matter what percentage of your users upgrade to paying customers, they may still not be able to compensate for the costs incurred by your free users. An example of this is web hosting. A service that provides free hosting can simply not sustain with premium features to a select bunch of customers alone since hosting a website can be extremely resource-intensive.

Your free services are not too valuable

The free offerings on your website should be sufficiently attractive to lure in new users. However, they should be restrictive enough to push the user towards paying for a subscription. A great example of this is SumoMe which provides a large number of features for free. But because of how useful they are, users have little incentive to pay for its premium features.

Your marketing is targeted at free services

Businesses that are desperate to find new customers for their business often choose the shortcut of targeting the free users in the hope that at least a small chunk of these users will turn into paying customers at a later stage. This seldom happens if your marketing message completely revolves around your free offerings. If your business is monetized through paying subscriptions, then it is very important to market the subscription fee and the associated premium features. This is the only way to make sure that your resources are consumed by customers who are ready to pay and are thus profitable.

Disclaimer: This is a guest post. The statements, opinions and data contained in these publications are solely those of the individual authors and contributors and not of iamwire and the editor(s).